New 401(k) regulations could prompt more advisers to move toward flat fees

Industry experts expect that regulations on 401(k) plan fee disclosure and investment advice will be finalized this year and that their implementation will prompt a wave of financial advisers to exit the market.

For several months, Congress and the Labor Department have been working on ways to increase fee disclosure and make sure that investment advice to plan participants is free from conflicts of interest.

The 401(k) Fair Disclosure and Pension Security Act of 2009, sponsored by House Education and Labor Committee Chairman George Miller, D-Calif., and Rep. Rob Andrews, D-N.J., would require 401(k) plan service providers to disclose fees to plan sponsors and to plan participants. It also would allow only independent investment advisers to provide advice to 401(k) plan participants.

The bill is being deliberated by the House Ways and Means Committee, but experts predict that the Labor Department will come out with regulations on both of these issues before Congress acts.

Specifically, Washington insiders expect the department to come out in the spring with final regulations on how 401(k) plan service providers would be required to disclose fees, and to issue regulations on how fees should be disclosed to participants shortly afterward.

“My sense is that given all the things that are on the congressional agenda for 2010, the DOL putting out regulations will satisfy policymakers,” said James M. Delaplane Jr., a partner at Davis & Harman LLP.

Tighter regulations on fee disclosure would give advisers serving this market more of an opportunity to work with 401(k) plan sponsors and participants as they would help explain fee schedules, experts said.

However, it may force many advisers, particularly those who charge asset-based fees, to move to flat fees, said Bart R. Bonga, vice president of Rothschild Investment Corp. Currently, it is difficult for plan sponsors to determine exactly how much they and their participants are spending on fees since they are based on a percentage of assets. However, if all of these fees are broken out separately, it’s going to become much clearer what the plan is paying the adviser.

The advisers who don’t move to a flat-fee structure will likely have to cut their margins to keep their clients, Mr. Bonga said.

That could result in advisers opting out of serving the small 401(k) plan market, said Bo Bohanan, director of retirement plan consulting at Raymond James Financial Inc.

“With a smaller plan with 25 participants, an adviser might bring in half a million in assets [through the plan],” he said. But for the amount of work that goes into managing a plan of that size, “nobody will make any money,” he said.

At the very least, advisers may find themselves in a position in which they have to justify their fees, said Jason C. Roberts, a partner at Reish & Reicher. “Some advisers will have to figure out if they need to augment their services to justify the fees they charge,” Mr. Roberts said.

The Labor Department’s revised rules on how investment advice should be delivered to 401(k) plan participants will replace a Bush-era regulation — now scrapped — that would have allowed more advisers to work directly with retirement plan participants. The rules are expected to be released for comment in the next few weeks.

The new rules, while likely to be more restrictive than the Bush-era rule, are not expected to go as far as the provisions in the bill in the House, which would allow only independent advisers to work with 401(k) participants, experts said (InvestmentNews, Nov. 23).

The Labor Department regulations aren’t expected to supersede the 2001 opinion involving SunAmerica Retirement Markets Inc., which permits providers to offer advice through an affiliate using an independently developed computer model.

Specifically, the department will address the issue of potential conflicts of interest with regard to whether an adviser can provide advice to retirement plan participants if that advice could affect the compensation of the adviser’s employer or an affiliate of the employer.

Depending on how restrictive the final regulations end up being, they could result in good news for independent investment advisers and bad news for affiliated advisers, Mr. Roberts said.

“For stand-alone, pure registered investment advisers, the new regulations won’t mean anything but opportunities because it could drive what would be viewed to be conflicted advisers out of the advice business,” Mr. Roberts said.

E-mail Jessica Toonkel Marquez at [email protected].